The social cost of carbon is now US$225 per tonne – what this means for Asia

Economist Michael Greenstone, who first put a price on emissions for the US government, says that unless the price gap between fossil fuels and clean energy narrows, poor countries will face difficult trade-offs amid climate breakdown.

Prof Michael Greenstone at NUS SGFIN 2024
Professor Michael Greenstone, one of the key architects of the social cost of carbon, stressed that apart from pricing energy at its social cost, subsidies to promote policy innovation are needed to improve access to inexpensive and reliable energy as well as reduce damages from air pollution and climate change. Image: NUS Sustainable and Green Finance Institute

If there is one thing that economists can universally agree on, it is the need for energy prices to reflect their true cost to human well-being. But estimating the “social cost of carbon” in a way that reflects the uneven distribution of damages across wealthier and lower-income nations has proven to be a challenging endeavour. 

Just ask Michael Greenstone, the Milton Friedman distinguished service professor in economics and director of the Energy Policy Institute at the University of Chicago (EPIC), who is one of the key architects of this concept.

Under former US president Barack Obama’s administration, Greenstone helped to value the monetary cost of climate inaction at US$21 per tonne of carbon dioxide in 2010. According to his latest projections, it now sits at US$225 per tonne.

“But what I want to emphasise here is how unequal those damages are going to be allocated around the world,” said Greenstone, when he mentioned this new figure in a presentation he gave at the National University of Singapore (NUS)’s Sustainable And Green Finance Institute summit last month.

Preliminary research by the Climate Impact Lab, which Greenstone co-founded in 2016, shows that the distribution of end of century damages in a world headed towards 3°C warming is highly unequal.

Organisation for Economic Co-operation and Development (OECD) countries – a club of mostly rich nations – are projected to experience nearly no damages, due to the benefits of warmer winters balancing out the damages from hotter summers, said Greenstone. Meanwhile, low-income countries are expected to be the hardest hit, losing about 3.8 per cent of their gross domestic product (GDP), though they are currently consuming relatively lower amounts of fossil fuels.

Yet, the “cruel climate arithmetic” means that even if the OECD countries go carbon neutral, non-OECD nations would still have to cut their emissions by at least 85 per cent to keep warming below 2°C, as set out by the Paris Agreement, said Greenstone.

“This is what makes the global energy challenge so painful, because these are the very places where people are currently dying of effectively low energy consumption and to achieve this goal is to ask those countries to consume much more expensive energy.”

If it were so important to the rich countries to reach the climate goals, then they could pay the poor countries to use more expensive energy… Unless we’re willing to send money, then we’re asking for favours.

Greenstone stressed that the global energy challenge requires the world to do three things at once: find access to inexpensive and reliable energy, mitigate air pollution and limit climate change. “The global energy challenge recognises that when we make choices about energy – when we decide to use natural gas, coal or renewables – what we’re really doing is making decisions about three goals that directly impact human well-being.”

To address this challenge, apart from pricing energy at its social cost, Greenstone proposed subsidies for technical and policy innovation, emphasising that policy innovation “deserves far more attention”. He cited the case study of the world’s first particulate pollution market in India’s Gujarat state, which he helped to launch in 2019 and has successfully reduced air pollution from coal burning factories by 20 to 30 per cent without increasing their operating costs, leading to the development of similar markets in other cities.

This sentiment was recently echoed by Nobel prize winner William Nordhaus, who has long been an ardent advocate of carbon pricing, to the point that some prominent economists like Nicholas Stern and Joseph Stiglitz have criticised him for over-fixating on it as the ideal climate policy tool.

“The most important support would be government subsidies for fundamental and applied research on green energy technologies,” said Nordhaus in a recent interview he did on the back of the latest update to the DICE model (the Dynamic Integrated Model of Climate and Economy), one of the first integrated assessment models that looked at the economic cost of climate change in the 1990s.

“Major countries today provide only US$40 billion of support for green energy research and development (R&D). This is less than half of the money that companies in the US devote to R&D in pharmaceuticals. We do not have a prayer of reaching our climate goals without strong government research support,” he said.

In this interview, Greenstone discusses the policy implications of his latest research for the Asia Pacific region.

William Nordhaus’ influential DICE model has been incorporated into the Intergovernmental Panel on Climate Change (IPCC)’s reports, taught in universities and used by financial institutions around the world. But a growing number of economists have critiqued Nordhaus’ projections about the economic cost of climate change. Do you think the DICE model needs to be revamped?

The DICE model by Bill Nordhaus was totally pioneering. We’re all standing on his shoulders. That model was created several decades ago before there was computing power and access to data as we now have, so I think it is time to update that and take advantage of what the advances in computing and access to data have allowed us to uncover about the relationship between climate change and human well-being. I started the Climate Impact Lab with a couple of colleagues with the mission to bring this to the frontier. We’ve published several papers on that and the US government has updated its estimates of the social cost of carbon based on our work.

We’ve also made some improvements in understanding some of the assumptions that went into the DICE model. But look, it was the foundation of how we think about the social cost of carbon and I was so pleased when Bill Nordhaus won the Nobel Prize, because it reflected his brilliance. But we’re now in a new era and a whole new set of insights are emerging.

What are the biggest changes that we should see in a revamped economic model?

A good example of the changes comes from the relationship between temperature and mortality. Basically, it looked like the impact of climate change and human mortality was going be zero in the old literature. Because the fewer deaths due to the cold from the cold days and more deaths from the hot days kind of balanced each other out. But it turns out everything we knew about that was basically from rich northern countries, where the temperatures were fairly cold to begin with and people were pretty wealthy.

When you get data from much larger portions of the world and are able to estimate these relationships in a much more flexible way, the damages from hot days are much worse than we understood and many more people live in the places where it’s already hot. All that had been obscured before. Based on the new data, it turns out learning about London, Luxembourg, Paris and Chicago was not very informative about Delhi. Now, we probably should have known that, but we didn’t have the data to show it. Now we do.

You mentioned that the social cost of carbon is now US$225 per tonne for the US. Singapore’s carbon price increased to S$25 (US$19) per tonne this year and will rise to S$45 (US$34) per tonne between 2026 and 2027. Is this the right price, in your view?

The most important step which most of the world is unable to take is to have carbon pricing at all. So it’s remarkable that a small island economy, like Singapore, has carbon pricing. This is an important step towards having energy prices fully reflect the climate damages associated with it. This is a little bit of a cooperation game. I suspect Singapore’s willingness to do more would increase if other countries were doing more.

Prof Michael Greenstone with Heng Swee Keat

Singapore deputy prime minister Heng Swee Keat (second from left) with Professor Greenstone (middle). Energy Policy Institute of the University of Chicago recently signed an Memorandum of Understanding with the National University of Singapore (NUS) to pursue research collaborations. Image: NUS Sustainable and Green Finance Institute

Do you think Donald Trump, if re-elected as US president, is likely to implement the US$225 per tonne carbon price? What about the Biden administration?

I do not think Donald Trump is aching to implement a US$225 per tonne carbon price.

It was under the Biden administration’s watch that the US enacted its first very consequential climate legislation called the Inflation Reduction Act (IRA). There are many parts of that I’ve done some work on, where it looks like the benefits are going to greatly exceed the cost and there are some other parts of we’re going to have to find out about over time. So that’s terrific.

They also quadrupled the social cost of carbon and the US government’s official estimate of the damages from climate change. They deserve a lot of credit for that, as that’s going to lead to stricter regulations in the US to restrict emissions. I think the next frontier is to see if we get a little more bang for our buck, or carbon reduction for our buck. Carbon pricing would be the way to do that, but there’s no missing that there’s been a lot of progress.

But do you think progress is fast enough to avert the climate crisis?

I think it’s a mistake to think of the climate challenge in isolation. We’re trying to balance these three things: inexpensive energy, limiting climate change and clean air. We could focus on solving the climate crisis, however one defines it, but it might be at the expense of other things that are also influencing well-being, like energy prices. So we have to find the right balance between that.

Do I think the world is going to meet the 1.5°C warming limit goal? I think there’s almost no chance of that. I wouldn’t say I’m particularly optimistic about 2°C either. But at the same time, those are kind of political goals and serve political purposes. It’s real societies, real governments that are going to have to make these decisions and these trade-offs. For some countries with low levels of income and focused on economic growth, 2°C does not look like the right target for them. They would probably rather have some extra economic growth in exchange for a little more climate change. They won’t say it like that, but that’s what they mean.

If it were so important to the rich countries to reach the climate goals, then they could pay the poor countries to use more expensive energy. Now, I don’t think it’s going to be very easy to run for office in the US or any other country on the platform of sending money to other countries, like Pakistan, Bangladesh or India, to subsidise their energy consumption. But unless we’re willing to send money, then we’re asking for favours [for the Global South to sacrifice economic growth in return for climate action], really. But I do think we can invest in basic research and development and policy innovation that make it easier for those countries to choose to use less fossil fuels. Until the difference between the price of fossil fuels and low-carbon energy sources closes more, it’s going to look like a very difficult decision.

Do you think there should also be a rethink about the limits of that growth and some of the impacts of that continued growth, given that it does put stress on resources, and it could benefit wealthier people within these countries disproportionately?

I don’t think it matters what I think. These decisions are made locally, I’m not in charge of anything, the United Nations is not in charge. It’s not going to tell Pakistan, ‘Hey guys, we have a terrific idea for you. Why don’t you grow a little less quickly?’ It’s very important to recognise – and this is a painful part of the climate challenge – that the impacts of greenhouse gas emissions are global, but the emissions decisions are local.

So we can sit here in wealthy Singapore and the US and have conversations about this, but they are philosophical conversations around whether the world would be better if it pursued degrowth. Those decisions are made in actual countries by actual human beings who are thinking about what’s good for them. However, there’s a fundamental role to make clear what those trade-offs and choices are, and to also make clear that there are plenty of market failures in Pakistan and India that can be corrected to the benefit of those countries.

How differently has your research with the Climate Impact Lab been received and used by policymakers outside of the US?

We’ve been trying to get the research done and have only begun to focus on how to communicate these findings. Most of those efforts today has been focused on the US, so one of the things that we’re excited about in this new partnership with NUS [which has signed a Memorandum of Understanding with EPIC] is the opportunity to learn how to better communicate this information, which could be valuable to people in this region and other parts of the world.

What is remarkable about our data is that it helps the world move past statements like, ‘global average GDP will be down by 3 per cent.’ There are no human beings that live at the global average. They want to know, where I live, what’s going to happen? And this data begins to allows us to unlock this. 

There’s an emerging mandatory disclosure regime in the US, the European Union and in Asia. Is this reaching the envisioned carbon reporting regime that’s needed to price carbon damages more comprehensively?

Darkness is the polluter’s friend. So what countries around the world are beginning to do is turn on the lights. That’s a very critical first step. For any climate policy you can think of, the foundation is knowing who emits what. Then the next step would be to begin to craft policies that reduce those emissions, now that we know what they are. Of course, I prefer policies that place the least cost on the economy, which naturally leads to using markets through carbon tax or cap and trade.

Compliance markets don’t exist currently in this part of the world, or at least in Southeast Asia. Do you think it’s feasible to create such markets?

Yes, I do. I helped the government in Gujarat, India set up a pollution market for particulate matter, not for greenhouse gases. There was skepticism that that would work, but it has worked fabulously. The world underappreciates how much policy innovation is necessary to achieve a policy goal in a local context, where people haven’t tried something before. Now that it’s been proven to work, pollution markets are expanding rapidly in India.

What’s an important environmental economics question that has not been fully explored, in your opinion, that you hope to see answers to in your lifetime?

The key question or burden in the discipline of economics is: how can the ideas that are developed be used productively in the real world? There’s a long path from the blackboard to actual implementation and I don’t think we pay enough attention to that path. There’s a lot of opportunity to shrink the distance between the two.

The interview has been edited for brevity and clarity.

Like this content? Join our growing community.

Your support helps to strengthen independent journalism, which is critically needed to guide business and policy development for positive impact. Unlock unlimited access to our content and members-only perks.


Acara Unggulan

Publish your event
leaf background pattern

Transformasi Inovasi untuk Keberlanjutan Gabung dengan Ekosistem →